The IRS continues to prioritize accuracy and fraud prevention in the 2026 tax filing season, with automated systems and data matching playing a bigger role in spotting potential issues. Schedule C filers—self-employed individuals reporting business income and expenses—and those claiming the Earned Income Tax Credit (EITC) remain high-focus areas due to higher error rates and improper payment risks. While overall audit rates stay low for most taxpayers, certain patterns on these forms trigger closer scrutiny, often leading to correspondence audits, notices, or full examinations. Understanding these red flags helps filers prepare accurate returns and maintain solid documentation.
Why Schedule C and EITC Attract Extra Attention
Schedule C allows deductions for business expenses, but the flexibility can lead to mistakes or aggressive claims that the IRS flags through its Discriminant Function (DIF) scoring system. The EITC, a refundable credit for low- to moderate-income workers, faces mandatory reviews under laws like the PATH Act, with higher improper payment estimates driving automated filters. In 2026, enhanced AI tools and third-party data matching (from 1099s, W-2s, and new reporting forms) make discrepancies quicker to detect. These areas see more audits because errors are common and costly to the Treasury.
Top Red Flags for Schedule C Filers
Self-employed taxpayers reporting on Schedule C often face scrutiny when numbers don’t align with typical patterns or third-party reports. The IRS cross-checks income against forms like 1099-NEC and looks for inconsistencies in deductions relative to gross receipts.
Common triggers include:
- Large business losses or deductions that nearly or fully offset income, especially in multiple years (raising hobby loss rule concerns)
- Unreported or mismatched income, such as gross receipts lower than total 1099-NEC amounts
- High home office or vehicle expenses without clear separation of personal and business use
- Cash-heavy businesses with minimal reported income, suggesting potential underreporting
These patterns often result in automated notices or requests for substantiation before escalating to a full audit.
Top Red Flags for EITC Claimants
The EITC provides significant refunds but comes with strict eligibility rules around income, filing status, and qualifying children. The IRS runs compliance filters on every EITC claim, cross-referencing residency, dependent info, and income thresholds. Errors—often unintentional due to complex rules—lead to frequent reviews.
Key issues that raise flags include:
- Claiming qualifying children with questionable residency or relationship documentation
- Income near or at the maximum thresholds for the credit amount
- Filing status mismatches or joint returns where ineligible
- Multiple years of similar claims with changing dependent situations
EITC audits are mostly correspondence-based, requiring proof like school records, medical documents, or lease agreements to verify eligibility.
Broader Trends Impacting Both in 2026
New technology, including AI-driven matching and expanded third-party reporting (such as digital asset forms), helps the IRS identify mismatches faster. High-income self-employed filers or those combining Schedule C with EITC face compounded risk. The agency focuses resources on areas with historical noncompliance, meaning accurate records and reasonable claims remain the best defense.
How to Reduce Your Risk
File electronically for quicker processing and fewer errors. Keep detailed records—receipts, logs, mileage, and dependent proofs for at least three years. Use IRS tools like the EITC Assistant or Qualification Assistant before claiming. If self-employed, track expenses meticulously and avoid blending personal and business costs. Professional preparation can help, though representation during an audit is rare for many in these categories.
Staying compliant avoids headaches and potential penalties. The IRS emphasizes education over enforcement for honest filers, but red flags can delay refunds or trigger reviews. Accurate reporting and good record-keeping keep most returns clear of scrutiny.
FAQs
What increases audit risk for Schedule C filers in 2026?
Large deductions offsetting income, mismatched 1099s, multi-year losses, or high home office/vehicle claims without proper substantiation often trigger reviews.
Why does the IRS scrutinize EITC claims so closely?
High error and improper payment rates, plus complex rules on qualifying children and income limits, lead to mandatory filters and frequent correspondence audits.
Are audits more likely if I claim both Schedule C and EITC?
Yes, combining self-employment with the credit can raise flags if income or deductions seem inconsistent with eligibility requirements.
How can I prepare documentation to avoid issues?
Maintain receipts, mileage logs, dependent residency proofs (school records, medical docs), and income records; respond promptly to any IRS notices.
What should I do if I receive an audit notice?
Review the request carefully, gather supporting documents, respond by the deadline, and consider professional help if the issues are complex—most are resolved through correspondence.
